EMC Posts Better Than Expected Results, Services Drive Revenue Growth

EMC announced its Q2 earnings on July 22, reporting a 2% year-on-year rise in net revenues to $6 billion. The company’s combined product revenues declined by over 3% y-o-y to $3.2 billion, while combined services revenues rose by 8% y-o-y to $2.8 billion. Combined revenues generated by products and services of EMC’s core information infrastructure division – including storage, RSA information security and content management – were up by about 1% on an annual basis to $4.4 billion. EMC observed a fall in storage product revenues, in keeping with the trend observed through 2014 and Q1’15. On the other hand, revenues generated by VMware and Pivotal (especially services revenues) witnessed a higher growth rate than core information storage to help the company’s top line growth.

EMC’s information storage product and services revenues combined for Q2’15 stood at just over $4 billion, about 1% higher than the year-ago period. Within information storage, services revenues grew by 7% to $1.5 billion while product revenues (hardware and software combined) fell by 1% over the previous year quarter to $2.5 billion. The company has been a clear leader in the external storage systems market over the last few years, with its share growing from under 23% in 2009 to over 31% in 2014. However, EMC lost market share in the external storage systems market through 2014, with its share declining by 30 basis points from 2013 levels of 31.3%. This was the first time since 2008 that EMC’s share in this market segment declined on a y-o-y basis. This trend continued through the March quarter this year, as EMC’s revenues dropped by almost 7% year over year to $1.5 billion. Correspondingly, its share in the market stood at 27.3% for Q1’15.However, the company has seemingly regained some momentum, reporting flattish revenues in a tough market environment.

Despite low product sales, the company witnessed a 49% year-over-year increase in its emerging storage product sales through the June quarter. EMC’s Emerging Storage products include the all-flash array XtremIO, scale-out network attached storage platform Isilon and converged storage infrastructure ScaleIO. The company remains optimistic about its emerging storage division and expects revenues generated by emerging storage to continue to outperform core storage with an expected 30% growth rate this year and a high teens growth rate over the next few years. On the other hand, the company expects traditional standalone storage systems product sales to decline at over 10% annually in the same period. The resulting revenues could grow at a modest 2-3% rate over the next few years.

VMware, Pivotal Services Sustain Robust Growth

Pivotal was the fastest-growing division for EMC last year, with a 27% growth in net revenues to $227 million. Although product sales remained flat over the previous year at $65 million, services revenues were up by 43% over the prior year period to $162 million. The company attributed this rise to a higher number of subscription-based sales as compared to standalone licenses in addition to Pivotal increasingly becoming key to cross-EMC solutions. The trend has reversed this year, with year-to-date product sales rising by 38% y-o-y to $46 million while services revenues grew by only about 6% over the prior year period at $82 million. Although standalone services were flat over the prior year period, the company expects the growth to continue through the coming quarters, further boosting revenues of Pivotal Labs and Pivotal Cloud Foundry.

VMware’s revenues grew by over 10% year-on-year to $1.6 billion, with its services division driving much of the growth (see: SDN, Hybrid Cloud Service, AirWatch Continue To Drive VMware?s Performance). Management expects continued growth in software-defined networking, hybrid cloud and end-user computing, as evidenced by its results through 2015 thus far. Going forward, management expects Q3 revenues to be 9-10% higher than prior year levels at about $1.65 billion. VMware?s services revenue stream is likely to continue to witness a higher growth rate than the revenues generated through license bookings.

Long-Term Growth Prospects And Impact On Margins

EMC identified six key areas of long-term growth for the company including AirWatch, VMware NSX, Pivotal, ViPR, ScaleIO, DSSD and XtremIO. According to the company, these six businesses could collectively generate $2 billion in revenue through 2015, representing 100% year-over-year growth. EMC’s consolidated gross margin was down by about over 2 percentage points annually to 59.8% in Q2, mainly due to an unfavorable product mix, consolidation of its VCE business and a negative impact of FX variation. VCE was a joint venture started by EMC, VMware and Cisco, and EMC acquired a part of Cisco’s stake in late 2014. According to EMC’s management, the company’s margins were flat over the comparable prior year period after adjusting for the impact of the VCE consolidation and negative FX fluctuations. [3] Furthermore, the company is targeting converged solutions around hybrid clouds and security analytics for clients that could potentially result in cost synergies and an expense reduction of about $150 million starting in Q4 this year. These structural changes to streamline operations could help reduce EMC’s total operating expenses by about $850 million by the end of 2016. As a result, EMC could post healthier operating margins and improve profitability despite a possible negative impact of FX fluctuations and an unfavorable product mix in the coming quarters.

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